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Coming Soon to Washington: Cheap Flights?

With American Airlines and US Airways poised to merge, there is a strong possibility that the two carriers will be forced to sell off some of their slots at Washington's Reagan National Airport. This could have a beneficial effect on competition at the airport by allowing low-cost carriers like Southwest and JetBlue to expand their presence.

Ever since American Airlines and US Airways(UNKNOWN:LCC.DL)announced their intention to merge in February, investors and industry observers have been wondering what effect the merger will have on competition. For the most part, American and US Airways have complementary route networks: They only overlap on 12 routes out of a total of 900. As a result, the two companies' management teams have recently stressed that the merger should not raise antitrust concerns.

There's always a but!However, JetBlue Airways(NASDAQ:JBLU) CEO Dave Barger recently squared off against US Airways CEO Doug Parker about the "new American's" dominant position at Reagan National Airport, just outside of Washington, D.C. Reagan National is one of several U.S. airports covered by slot restrictions, where the number of flights is capped. As a result, airlines can only add flights by acquiring slots from carriers that already serve the airport, which can be very difficult to accomplish. JetBlue has had trouble growing its presence at Reagan National because of the unavailability of slots.

US Airways is already by far the largest carrier at Reagan National. Last year, the company completed a "slot swap" with Delta Air Lines(NYSE:DAL), whereby Delta received 132 slot pairs at New York's LaGuardia Airport in return for 42 slot pairs at Reagan National Airport. To win regulatory approval for that transaction, the two carriers had to divest eight slot pairs at Reagan National, leaving US Airways with 55% of the slots there. (JetBlue purchased those slots at auction for $40 million.) Based on current schedules, American Airlines appears to hold approximately 50 of the remaining slot pairs. As a result, if the merger goes through with no slot divestitures, the combined carrier would hold approximately two-thirds of the slots at Reagan National Airport.

US Airways and American only compete on two routes from National Airport: Nashville and Raleigh-Durham. Thus, a merger would only directly impact competition on those two routes. However, American's potential stranglehold on slots at National Airport would give the company a massive competitive advantage in the D.C. region.

National is the key to D.C.Doug Parker argued last week that holding two-thirds of the slots at Reagan National would not violate antitrust laws for two reasons. First, US Airways utilizes many smaller regional jets and turboprops there, so the combined carrier would only control about half of the seats, even though it would have two-thirds of the slots. Second, the D.C. area is also served by Washington Dulles Airport, where United Continental(NASDAQ:UAL) operates a hub, and Baltimore-Washington International Airport, which is the third-largest focus city for Southwest Airlines(NYSE:LUV) (including flights by its AirTran subsidiary). Between those three airports, American would only operate 25% of flights.

However, National is by far the closest airport to downtown D.C. and has its own stop on the Metro system. This makes it the preferred airport for most travelers in the region. While Dulles Airport will be connected to the Metro system later this decade, it is 20 miles further from downtown Washington than Reagan Airport, which makes it much less convenient. This is especially important for high-value business travelers. The ability of competitors to add flights at Dulles and BWI is a small consolation when the highest-value traffic strongly favors Reagan National.

What does it mean?Low-cost carriers like Southwest and JetBlue are increasingly trying to win corporate customers, and growing at key airports like Reagan National is critical for them. Given that regulators forced US Airways and Delta to divest slots to limit the former to 55% of the slot pairs, it seems unlikely that American and US Airways will be permitted to keep all of their slots. I expect antitrust regulators to recommend that the companies divest 10-20 slot pairs. Southwest and JetBlue have each worked hard to gain a small foothold at Reagan in the past few years, and they are likely to be the main bidders for these slots.

Ultimately, an expanded presence at National Airport for Southwest and/or JetBlue would be good for travelers, as they would likely add service on some major routes that are currently monopolized by legacy carriers, thus driving down fares. This would also be good for the low-cost carriers, as it would bolster their case in competing for business travelers. While it would prove a small setback for American, the company would be compensated well for selling slots: JetBlue's winning bid in the 2011 slot auction equaled $5 million per slot pair.

Author

Adam Levine-Weinberg is a senior Industrials/Consumer Goods specialist with The Motley Fool. He is an avid stock-market watcher and a value investor at heart. He primarily covers airline, auto, retail, and tech stocks. Follow him on Twitter for the latest news and commentary on the airline industry! Follow @AdamLLW